Friday, November 8, 2013

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The federal government spends way too much. On this, those on the left and right should all agree. The disagreement, on spectacular display this October as the federal government shut down for over two weeks, is the degree to which our debt is an urgent problem and how it should be fixed. When we look closely, we see that we’re actually not as underwater as many think. And we could readily solve the long-term problems if we agree to cut back significantly on one major spending category: defense spending.

When it comes to the national debt, conservatives are right that we’re spending too much and that the debt is a problem. But I feel that they’re off the mark in their solutions and in the degree to which they worry about the national debt. The deficit is actually half what it was at its peak during the economic crisis of 2008 and 2009, which was the last budget set under President Bush. The deficit is projected to be about $670 billion for fiscal year 2013, down from a peak of $1.4 trillion in 2009 and $1.3 trillion in 2010 and 2011. This is real progress.

When measured as a percent of GDP (gross domestic product), the national budget deficit is also much lower, at 4 percent of GDP in 2013, as compared to almost 10 percent at its high in 2009. The Congressional Budget Office projects the deficit will fall to 2 percent of GDP by 2015.

However, what really matters when it comes to our debt and deficits is the interest we pay on the debt. For example, if your mortgage rate is 3.5 percent instead of 8.5 percent, it has a huge impact on what you actually pay. The interest rate on our national debt is currently very low, and so the actual payments are very low.

As percent of GDP, the interest we pay on our national debt is less than half what it was in the 1990s under the first President Bush and Bill Clinton. The economy boomed in the 1990s even with the interest payments twice what they are now. There are, of course, a great many factors behind net economic performance in the world’s largest economy, but this recent demonstration of the economic impact of much higher debt payments than we have today is good evidence that our current debt burden is sustainable.

Figure 2. Federal interest payments as a percent of GDP (source: CBO)

So what gives? With the deficit on track to fall by 80 percent from its high in 2009, what’s all the fuss about?

What About the Long-Term?

Well, in the long-term, there is still a problem. The Congressional Budget Office (CBO, a nonpartisan federal agency) projects that the trend starts to turn around again in 2018, and the deficit will, under current policies, return to 4 percent of GDP by 2023. But that’s 10 years from now. And we’ve already seen that 4 percent annual deficits don’t bring the economy crashing down. In fact, the U.S. looks pretty good compared to our peers in Europe or Asia in many ways, as the markets and continued strength of the dollar have shown. We could, and should, have a much stronger economy than we do, but it seems pretty clear that it is not our federal deficit that is the cause of our still-slow economic recovery.

(Many economists, including those at the International Monetary Fund, are now concluding that we have actually spent too little to get us back on track economically. The IMF, long a supporter of “austerity” measures — essentially national belt-tightening — has done a sharp about-face in light of the experience of European countries tackling their own recessions since 2008.)

CBO projects that by 2038 — 25 years from now — our federal debt will reach 100 percent of GDP, somewhere it hasn’t been since World War II. It also projects that interest rates will rise in coming years and that the interest burden from the debt will rise to 5 percent of GDP by 2038, up from about 1.5 percent today. That is a real problem, but it is five years from now before the interest burden even climbs above 2 percent — still well below the 3 percent it was during the mid-1990s. Five years is plenty of time to work on solutions that don’t require hostage-taking.

Figure 3. Federal debt as a percent of GDP (source: CBO)

What to Do About Long-Term Spending?

CBO provides yet another great chart showing how the federal government spends our money. The biggest expenditures are Medicare and Social Security, which are paid with payroll taxes rather than income taxes. The biggest expense by far that is paid with income taxes is defense spending, which amounts to at least 27 percent of the total budget when we include benefits for veterans and retirees. U.S. defense spending amounts to about 7 percent of GDP. But that’s just the headline figure for defense spending. When we add all the relevant expenditures, the total defense budget is about $1 trillion. This staggering number leaves a lot of room for belt-tightening.

Figure 4. Federal spending by sector (source: CBO)

It’s helpful to compare U.S. defense spending to that of other nations. While we used to spend as much as the rest of the world combined, we’re at about 40 percent of total global defense spending now, while our economy constitutes only about 20 percent of global GDP. We spend about eight times our nearest competitor, China.

Figure 5. U.S. defense spending compared to other countries (source: Pete G. Peterson Foundation and Stockholm International Peace Research Institute)

Isn’t the U.S. military budget already facing a lot of pressure? Well, sort of. The sequester kicked in for defense spending in 2013, and this will result in about $1 trillion less defense spending over the next 10 years. But this still results in astronomically high spending on defense — far beyond what is necessary for true defense. The following chart shows that spending will return to about 2004 levels after the sequester and stay there through 2020. Keep in mind that defense spending has actually risen each year under Obama, separate from the costs of the Iraq and Afghanistan wars. This is itself a strange outcome considering that Obama campaigned on “ending the mindset that got us into the Iraq War” — aka militarism as a one-size-fits-all foreign policy.

Figure 6. U.S. defense spending history and projections (source: Center for Strategic and International Studies)

Cutting defense spending is not a new idea. There are many credible plans to do so. One good example was published in Foreign Policy magazine in 2011, by Douglas MacGregor, a retired army colonel and author of many books, including Warrior’s Rage. He called for cutting the budget essentially in half, resulting in $280 billion per year in savings.

If we were to cut the U.S. total defense budget in half by, say, 2020, the approximately $500 billion of annual savings (half of about $1 trillion each year) would go very far toward balancing our annual budgets and preventing our national debt from becoming the long-term threat that it may otherwise become. At the same time, we would be far less prone to “adventures” abroad. We can defend ourselves very well with a far smaller military budget, while at the same time avoiding the enmity of friends and enemies around the world who are rightfully resentful of our overly militaristic foreign policy.

I’m happy to find that my views are widely held when it comes to defense spending. People from both sides of the aisle agree that U.S. defense spending should be slashed far more than is being proposed by anyone in Congress. The American Conservative magazine has argued that our military spending is the greatest threat to our national security. So why isn’t Congress cutting the U.S. military budget? That’s a question for another day.

Does Tam assume that we'll be able to finance the national debt at 3% interest forever? Sure, our interest paid is 3% of GDP, same is in the '80's when interest rates were 18%. What happens when interest rates go back up to, let's say 10%? Our interest paid will be 10% of GDP or higher. So much for sustainability.

And the only reason interest rates are so low right now is that we are doing QE at a rate of $85B per month. As soon as QE ends (which it eventually must, one way or another) interest rates (and our debt burden as a % of GDP) go up right along with it. And that's not even counting what will happen if we actually try to unwind the Feds $4T balance sheet. Interest rates and our debt payments will go up even more.

Nope, the deficit can be brought down by smart spending. Deficits are reduced under Democratic admins, increased under Republican admins. That is where the disease is.

"In my lifetime, every Democratic President has left office with a smaller deficit than he inherited, and every Republican President except Nixon has left office with a larger deficit than he inherited. This may be because Republican Presidents have placed high priority on cutting taxes, and placed lower priority on (or had less success at) cutting spending. Democratic Presidents have perhaps had equal success at cutting spending (I haven't researched those numbers), but have not been bound by promises to cut taxes."http://home.adelphi.edu/sbloch/defici...

Botany, my article already reflects the factors you raise. I describe the long-term problem of rising interest rates, which are factored in CBO's projections. I agree that QE will end before too long and we'll also see rising rates on government debt over time (as new, higher-interest debt is acquired). I then suggest that the long-term debt problem can be solved by cutting the federal 'defense' budget in half over the course of 5-10 years.

The Turks and Israelis reverse-engineer our classified military technology and sell it around the world, for example to China. (Except for our boondoggles, probably.) Development of new war tech is structured to cost as much as possible and take as much time as possible, right? Money in circulation channels pre-dating Ike and Smedley is presumably more powerful than any Sec. of Military-Industrial Good-Thang would be. Meanwhile, China keeps building bridges. BTW, renovation of the Verrazano-Narrows Bridge between Brooklyn and Staten Island includes some outsourcing to China, because American companies didn't have the "manufacturing space, special equipment and financial capacity to do the job" (NY Metro Transport Auth).

Don't get me wrong Tam, it's a noble effort. The combination of cutting defense spending, foreign aid and corporate welfare would help cut the deficit considerably. Probably about 1/2 of those savings would go away (over time) when QE is ended and the inevitable rise in interest rates occurs. But your analysis is far more on the money than someone like Krugman who insists we can spend our way out of debt. Still, in the long run, the demographic changes that influence our entitlement programs will overwhelm the savings from these defense cuts. We certainly can slow it down though, if we have the political will to do so.

Of course, the greatest obstacles are political. Few in either party want to defense budget cut in half. That would require a unique coalition of libertarians and those on the far left which most would agree is extremely unlikely.

"With eurozone unemployment stuck at record levels above 12% and the economy failing to generate momentum after emerging from recession earlier this year, some analysts are warning that the region is at risk of sinking into a Japanese-style era of deflation and stagnation.

Such talk has led to calls for the European Central Bank to cut interest rates to a new record low when it meets Thursday, or at the latest in December, to inject new impetus into the weak recovery and take some of the heat out of a rally in the euro.

CB President Mario Draghi said last month the bank stood ready to cut rates again to shore up the weak recovery. And the growing risk that inflation will undershoot the ECB's target of "below but close to 2%" by a wide margin for years to come could stir the bank into action this week."We believe that the October [inflation] reading of 0.7%, the rather broad-based nature of disinflation, and the firm euro will force the ECB... to shift towards a rate cut," wrote UBS economist Reinhard Cluse in a note, predicting a cut in the key ECB rate to 0.25%."

indeed, tabatha, let'sbring the deficit down with smart spending... the amount of Euros the German government spends in retraining and technical training is quite impressive, and it works. Although long aware of this stat, it still should amaze all of us that the USA spends more on defense than ALL the other countries on earth COMBINED. What a tax burden on our people and our businesses. Look at the following short webref and you will see again how the 1%, and really the .001, are making out splendidly, as usual, but especially here in our new era of robber baron capitalism. [ http://www.upworthy.com/9-out-of-10-a... ]http://www.upworthy.com/9-out-of-10-americans-are-completely-wrong-about-this-mind-blowing-fact-2?g=6 QE is simply welfare for the 1% and .001. Our massive empire with these gargantuan outlays, and heavy burden on citizens (but not the 1% who offshore most of their gains, and they admit it, too), really has all this hardware to protect the 1% and their minions.

We should Cut Defense Spending by half or more, as the President has caught all the bad guys and made the World safe for all living souls. There is NO more Terrorists, No Criminals and No Evil Empires left to defend against, our Messiah has saved us all from each other......